Planning personal finances is a lot like training a puppy

Learning from a new family member

The pandemic brought about so much change in so many walks of life. That’s a literal statement for our household, as we established a family walking routine early on, and then took it to an entirely new level – we got a dog!

Of course, our Piper is more than just a walking companion. She’s a part of our whole family dynamic, and we all continue to learn and grow together. Without taking the joy out of it, the experience has also given me pause to think about some parallels with personal finance.

Training first … but who’s training whom?

A dog will be what her companions allow her to be. Our training classes provided us with expert guidance to get started on the right track, right away. What we quickly came to realize though was that there is learning on both sides of the relationship. In fact, there was probably even more on our side as we had to unlearn established patterns and create new ones, while Piper was ready and raring to go.

Money too can get out of hand if you’re not careful. In response, you might be tempted to force it to be what your current lifestyle demands, but almost inevitably that will be more frustrating than fruitful in the long run.

Instead, commit to understanding the practicality of your finances, both the constraints placed upon you and the opportunities offered. Grounded with this knowledge, you can set a path toward your future satisfaction, with an appreciation of the trade-offs you’ll need to navigate along the way.

Gates and fences

In the early months, our house was an obstacle course of gates and fences. Those small inconveniencies gave us comfort not to have to constantly monitor Piper’s whereabouts. She was safe from potential dangers, while on the other side the many desirable playthings remained beyond the grasp of our inquisitive canine’s canines. (We shall not speak of the early lesson learned of the benefit of digital cash over dollar bills.)

Gates and fences are akin to setting boundaries between the practical need to save and the emotional pull to spend. Those boundaries follow from your financial goals, which in turn are designed so you can reach your personal goals. That means you must first decide what’s important to you, then determine how much it will cost and when, and finally what you need to save in the present to realize that future.

That’s a lot to manage if you try to do it all at once, but if you approach it systematically then it is indeed manageable. This is where a financial advisor can be particularly helpful. More on them below.

Back at our house, we eventually de-constructed the maze of barriers, but in some ways we’re reflexively operating as if they’re still there. Likewise, consciously focusing on your saving and spending practices today can give you the mental muscle memory for the effective habits that can sustain you over a lifetime.

Rewards and punishment

One of the first training techniques we learned was to look for ways to reward desired behaviours, as opposed to punishing faults. We still gently correct the transgressions, but by emphasizing positive reinforcement we expect that the good behaviour will become second nature. It’s still a work in progress years later, but things have noticeably improved.

As you begin to take greater charge of your finances, find as many ways to reward yourself for as many achievements you can identify. Start by thanking yourself for starting. Then build momentum by positively reinforcing the actions you take and the milestones you cross.

By the way, we learned that too much reward in the form of excess treats has its own kind of payback. (Carpet cleaner was involved.) For you and your finances, don’t let this deter you from enjoying some reasonable indulgences along the way. Just be sure to be fair, honest and objective, and you’ll make progress.

With a guiding hand

As much as it may seem like having a dog is all fun and games, we knew this would be a serious commitment. That’s why our very first step was to talk to a local veterinarian about nutrition, checkups, allergies (ours), booster shots and more. This gave us a better sense of what was ahead, including how to budget for it.

Like a veterinarian who works with animals day-in and day-out, a financial advisor can be an invaluable resource. An advisor can draw from the experience of working with families like yours, helping you understand your financial personality, and how to make best use of the financial strategies and products available to you.

It’s a family affair

Full disclosure here, it’s my wife who did the research to find a hypo-allergenic, cuddly and trainable breed, which we then discussed and agreed upon. She’s also the one who attended the weekly training sessions, which again we de-briefed and worked on together.

Similarly in household finance, one person may take the lead in money management, but ultimately it works best when it’s a team effort.

How medical symptom checkers can shine a light on robo-advice

The limits of expert systems

While running in the great outdoors this weekend, I was listening to the Skeptics Guide to the Universe podcast, which explores and de-bunks pseudo-scientific claims. It got me thinking about the delivery of financial advice, and automated advice in particular.

After discussing Covid-19, co-host Steven Novella, a medical doctor, went on to question the accuracy of online symptom checkers (SCs). In a recent blog post, he summarized the findings of an Australian study that evaluated the accuracy of 27 online SCs.

Novella characterized the study’s results as “pretty disappointing.” On average, the correct diagnosis was listed first 36% of the time.

Not bad at first blush to hit it on the head more than one-third of the time, but the correct diagnosis was only listed among the top 10 possible diagnoses 58% of the time. For practical purposes, that means the correct diagnosis was missed 42% of the time, as most patients likely don’t look beyond the top 10.

More interesting to me, though, were the potential reasons why the diagnoses were so poor.

Parallels with automated financial advice

As the panellists shared their thoughts, I couldn’t help but see the parallels with automated tools in the personal finance and investment fields. These include do-it-yourself online brokerages and robo-advisors that offer online investment portfolios, but also advisors’ own tools: from the reference sources that clients never see, to side-by-side processes, to that solo interaction between the client and the evaluation tool.

Wherever the technology lies on that spectrum, it can’t be a proxy for the advisor.

As with the doctor-patient relationship, a financial advisor has to understand the client in order to deliver personalized advice. The less the advisor interacts with the client, the more difficult it is to deliver.

And even with the benefit of direct contact, it remains the advisor’s responsibility to apply and explain the tools and their output so the client’s interests are adequately served.

Points to ponder

Here are some of the podcast panellists’ thoughts on symptom checkers, and how I see them applying to financial advice:

Quality of input

Patients are often not very good at describing symptoms. People may say numbness when they mean weakness, or they may treat the two as the same, Novella said.

A client may use similarly imprecise language to describe their personal goals or their feelings about risk.

Alternatively, a client may adopt words offered by the document they’re filling out or the platform they’re using without appreciating nuances. Absent the advisor probing further, the premises for a client’s action (or inaction) may not properly reflect their intentions.

People come to you with a narrative

Both medical patients and financial clients can be biased, frequently responding with their relative feelings anchored on recent experiences. One has to ask questions in multiple ways to deconstruct the objective facts from the narrative, and then reconstruct those facts in the medical or financial arena where they are to be applied.

It’s a dynamic investigative process that takes a lot of insight into how people think and communicate. A focused professional can then use this knowledge to move the relationship forward.

Body language

An experienced physician reads all the signs, including the patient’s body language. Advisors can observe a client’s posture and tone of voice, and how a couple interacts — things you don’t experience through checks in boxes or even the most eloquent text summaries.

Triage function

This is the “Do I go to the hospital?” moment. The SCs reviewed in the Australian study scored 49% on this measure, though they erred more on the side of sending people when it wasn’t necessary.

While there’s no life or death counterpart in financial advice, the accumulated harm of unverified guidance could make it difficult for someone to recover should problems materialize in later years.

The “why” of the output

It’s not enough to produce an output and expect that it will speak for itself. Newer SCs that use artificial intelligence give reasons for why they predict certain things, as well as how sure they are about the output provided.

That’s a large part of the financial advisor’s value to the client: explaining where things come from and where they are headed. It’s a check against the quality and thoroughness of the inputs that led to the output, and an opportunity to reinforce the client’s confidence and commitment to the plan you are creating together.

As a final point, it should be noted that SCs have no common regulation, if any at all. Comparatively, there is plenty of regulation in the financial field, and compliance departments help advisors stay vigilant and within boundaries.

Still, financial tools can be very complex. It’s incumbent on advisors to fully understand what is at their disposal so that digital platforms are used as tools of the advisor, and not in place of the advisor

3 thoughts on establishing your emergency fund

Published version: Linkedin

For a long time, we didn’t have an emergency fund, though we’ve had a line of credit (LOC) for quite a while.

Our household budget was within our means. We were operating fine in our regular spending routine without having to check when payday was coming. There was also a fair amount of reserve that had built up in the separate accounts we’d established for each of the major expenses.

It wasn’t for fear of holding money in no/low-interest cash that might otherwise be making investment income. No, that’s exactly the effect of those individual accounts anyway. Rather, we were confident in the arithmetic, and didn’t think there was a need to have that one account.

It wasn’t until we had to dip into one of those reserves to replace an appliance that our perspective shifted: Large though that reserve had become, it had a defined purpose and calculated amount that would eventually deplete it. Emergencies aren’t like that.

1. The why of an emergency fund

An emergency fund isn’t about being budget-conscious; it’s about potentially being UNconscious, indisposed and/or impecunious at a time when there remains a budget to be serviced. It’s about you and your ability to be the continuing funding source for your household.

It’s also about being able to respond to large, unexpected expenses. Be careful though not to confuse that with the major expense reserves mentioned above. Years will pass before those needs may arise, but while the exact timing may be unexpected, those remain inevitable.

At the other extreme from normal budgeting are unlikely things such as catastrophic property damage, permanent disability or death. Insurance is for those remote-risk/high-peril events. Between those two is where an emergency fund is situated.

2. LOC or emergency fund – What’s your gut feel?

Part of my own early confidence lay in the fact that as the mortgage was being knocked down, we’d set up a substantial line of credit. It was more than sufficient for the 3 months – or even 6 or 12 months – worth of accessible funds variously suggested to bridge until things would be expected to normalize after an emergency might hit.

But over time I became more familiar with my own emotional relationship with money. Ever since I had a mortgage … I didn’t want one anymore. Though we lived contently and made appropriate allocations to retirement and children’s education savings, the extra dollars were put toward trimming that large liability. That was the mindset and routine while in the midst of stable finance and balanced emotion.

So, how might I feel in a future time of monetary and mental stress, being compelled to dive deeper into debt? Not good in all likelihood. In fact, that prospect could easily exacerbate the impact of any emergency that may in fact arise, and extend out the recovery time. For us, that was when the formal emergency fund took shape, while maintaining the line of credit as the next line of defence.

That’s our family, not necessarily yours. Still, you would do your future-self a great favour by taking the time while things are rosy to contemplate how you will feel when things are not.

3. Deciding your __ months of money?

Assuming you’re committed to the purpose, the first action question to address is how much will you accumulate in that fund? The commonly suggested proxy is, as mentioned above, a certain number of months’ worth of accessible funds. But how many for you: 3, 6, 12, more?

As the timing and extent of an emergency is unknown, there is no formula to provide you with a definitive number. A practical approach is to focus on the most likely of those unlikely events: an employment gap, whether of your own choice or initiated by your employer. Knowing yourself and the industry where you work, how long do you think it would take to get re-situated? Other factors will come into play, like severance pay and employment insurance, but start here as a rough target.

Second, be clear about what this number of months means. In theory it is lost income, but more importantly in an emergency situation, it is the amount of spending that has to be replaced. The two are connected, but the latter continues even in the absence of the former.

Fortunately, unless you’ve been living excessively, your spending will be less than your earnings. Look back at your bank and credit statements over the last year. Take out the truly extraordinary things, and deduct items you can suspend or defer, at least in the short term. This is the monthly average to multiply by your chosen number of months to give you a target.

Third, how much will you regularly deposit into your emergency fund? By “regularly”, I mean weekly or in alignment with your pay cycle, which brings us back to your budgeting. As remote as an emergency may be, you need to assign a percentage or dollar amount that you can commit to, even if that’s a small figure.

Here then is another gut check: Divide your accumulation target by your weekly deposit commitment to tell you how long it will take to get there. If you’re feeling a knot forming in your abdomen, you may want to bump your commitment. Balance that against the discomfort of the current budgetary sacrifice to arrive at a manageable medium.

With a line of credit at your back along the way, you now have a process, timeline and dollar target to get your own emergency fund in place.